DGI Adventure 07-18-16 Sold Cash Secured Put + Investment Thesis – Wells Fargo & Company (WFC) – $46.00 strike – Aug 05 Expiration

This trade was actually executed on Friday 07/15/16. I didn’t get a chance to write about it until today.

Please visit the core philosophies article on my investment thesis process for a deeper explanation of the components of this article.

Dividend Cycle

WFC should go ex-dividend early in August. I’m hopeful that it will be after this trade expires, but it will be close. The last few years have been right around 8/5. My Interactive Brokers interface listed it as 8/10/16. We’ll see. If I end up getting assigned, it would be nice to collect the dividend. The payout currently sits at $0.38/share which is nearly equal to the premium received. WFC is a dividend challenger, sporting 6 consecutive years of dividend increases. The payout in May was an increase over the previous, albeit a pathetic bump of only 1.3%. As a systemically important financial institution (SIFI), management needs to get permission from mommy to pay dividends, so you can really only expect so much…


The QC (Quantitative Case)

*Note: the dividend cushion ratio doesn’t really work with banks. They have goofy shit going on with their books, and typically gobs of debt and cash that isn’t really related to the dividend payment. I’m still considering these flagged though, because I don’t really trust banks.

SPL (Strike Price Logic)

$45.00 seems to have been a resistance point over the last six months or so. The 52 week low is $44.50, which was set on 06/27, the Monday after Brexit.

When it has touched the ~$45 level, it’s been awfully brief:

WFC – 1 Year Chart – Courtesy Yahoo Finance

I really wanted to try to get an expiration ahead of the ex-dividend date, which meant I was looking at August 5th at the latest (it still might be too late). The $45.00 strike on that expiry didn’t sport enough yield, but the $46.00 strike premium was acceptable. So I went for it.

WFC announced earnings this morning, and Mr. Market was disappointed. When the trade executed, shares were actually down 3% on the day. That’s a lot of volatility! I would have expected slightly better premium pricing, but it wasn’t there.

The order book (i.e. # of “bid” vs “ask” orders) was relatively balanced which is unusual for such a volatile trading day. I have a theory that maybe there were a lot of traders who bought puts ahead of the earnings date, and were trying to cash in once the price moved in their favor.

Oh well. 14% annualized is pretty good, and the shares ended up closing with okay but not great downside protection. I’ll take it.

QWaF (Qualitative Warm and Fuzzy)

I can’t understand big banks’ balance sheets. The debt levels scare me. I don’t understand how they calculate earnings (I don’t think anyone really understands…not even the banks). The quantitative methods of evaluating banks is a total mystery to me, so I guess any investment I make in a bank is purely about qualitative stuff.

Wells Fargo strikes me as the least evil big bank. When all the other banks started loading up on investment banking, trading desks, derivative hanky panky, etc. Wells Fargo, focused on deposits, and conservative loans. When everyone else gorged themselves on junk bonds from the oil patch, Wells Fargo intentionally tried to limit their exposure.

Considering I have no idea how to judge one bank from another, my gut feeling says Wells Fargo is the kind of bank you would want to marry your daughter. Or maybe you would just be okay with them dating, but that’s probably as good as it will get with banks? So maybe invest in Wells Fargo?

CPR (Cold and Prickly Risks)

See above. I don’t really understand banking, but after 2008, the consequences of over-extended leverage and opaque accounting practices demonstrated just how cold and prickly the risks of investing in ANY bank can be. I have almost zero faith that regulators are adequately keeping those risks in check now. So you hope your bank is self-regulating to some extent, which means the best bet is to go with the not evil banks…if you can tell who they are. 

I’m just guessing, but I think Wells Fargo is one of the few not evil ones.

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